The difference between a good business and an average one often lies in their approach to pricing. Pricing models play a significant role for a company in terms of the achievement of goals and objectives.
A strong business can raise prices without losing customers or profits. As pricing power is the key to success in a rapidly changing digital world, the value-based model is critical for your SaaS company.
What is Value-Based Pricing?
Value-based pricing is a strategy of setting prices based on the consumer’s perceived value of that service. The final selling price of a product is determined using data on the perceived customer value. Then the quest for profit will involve other strategies to create additional customer value rather than raising prices amid competition.
Essentially, there is more focus on selling the values and culture of a product rather than the product itself. A consumer’s willingness to pay depends on their perceived product value. When an additional value is created, the consumer’s desire to make the sale increases parallelly, even when there is competition in the market.
Thus, value-based pricing gives you the power to raise prices without losing your business to the competition. The selling price always coincides with customer value, giving customers the impression that they have only paid the right amount.
The Different Pricing Methods Followed Today, And Why Value-Based Pricing Makes Sense
Pricing strategy greatly influences the achievement of the goals and objectives of every company. Cost-based pricing, competition-based pricing, and value-based pricing are the three pricing approaches followed by industries and companies.
With cost-based pricing, the cost of producing the product or service determines the selling price. The cost is set between a floor and ceiling amount and is susceptible to influence from market conditions. This approach does not require research or expertise, and price increases can be easily justified using market conditions.
However, this approach does not consider the customer and the customer’s willingness to pay and is profit driven. There is a risk of getting displaced from the market by competition due to high prices or simply when a competitor is willing to undercut your prices.
Competiton-based pricing focuses on the competition’s pricing when setting prices. The focus is solely on information regarding the competitors and not on customer value. It is a reasonably simple approach with low risk. When a competitor tweaks prices, adjustments are made.
One disadvantage of this approach is that when one follows the competitor’s prices blindly, without considering other factors, there’s a possible loss of opportunities and profits. For instance, when companies keep their prices lower than the competitors, potential customers can have apprehensions about the quality.
Competition-based pricing is good for the short term; in the long run, it is a hit or miss.
That brings us to…
Since the value-based pricing approach focuses on the customer while setting a selling price, it thus falls into a range of ‘values’ that the customers are willing to pay for.
This approach has an advantage in terms of profits. When customer willingness is known, higher prices can be set to maximize profits. Thus there will be an improved competitive positioning and more predictable revenue streams.
Still, this approach requires research, expertise, and time as the method is not exact. Calculations and ongoing communication with the customer are often needed to understand customer perception and preferences.
Factors That Influence Value-Based Pricing
There is no one-step solution to design the accurate pricing of a product based on the value-based approach since the measurement itself is influenced by a variety of factors:
- Value in use: This is the value that the product or service provides to the customer. This can be calculated by considering the cost savings or increased efficiency that the product or service delivers to the customer.
- Value in exchange: This is the economic value of the product or service, which is determined by the market demand and supply for the product or service.
- Perceived value: This is the value that the customer perceives the product or service to have. It is influenced by factors such as the quality of the product or service, its features and benefits, and how well it meets the customer’s needs.
- Target audience: This one is a bit interlinked with the above. The target audience for the product or service can influence the price because their willingness to pay for the product or service is dependent on the perceived value.
- Competitors: The presence of active competitors in the market can influence the price of a product or service. If there are many similar products or services available at competitive prices, it may be difficult to charge a higher price.
- Value drivers: These are the factors that drive value for a company, such as the quality of the product or service, its features and benefits, and its efficiency. By identifying and optimizing these value drivers, a company can increase the value of its product or service to the customer.
- Brand advantage: A company’s unique selling proposition (USP) or brand advantage can also influence the price of a product or service. If a company has a strong brand reputation or a unique product or service, it may be able to charge a higher price.
Top Examples of Value-Based Pricing in Today’s Business Scene
The value-based pricing approach occupies a central position for success in the business scene. Here are some examples of companies that successfully employ value-based pricing:
Apple’s pricing prowess is a unanimous acknowledgment in the business world. Apple’s pricing strategy falls into the value-based pricing model. The company experienced price resistance when it first launched the iPhone and had to drop the prices. However, Apple realized the need to understand how people value a product in advance rather than resorting to guesses.
The company now follows a value-based strategy for all its products. The present reputation of Apple and the company’s products are testaments of how the model helped them.
Further, if the company had followed cost-based or competition-based models for setting selling prices, the loss would have been in billions as the prices determined by these approaches would be significantly lesser. Not to mention, with the above approach, Apple may not have been able to really differentiate itself with its products, as it has done it now.
Adobe’s transition to a subscription-based service is one of the rare instances where a large-scale business has successfully pulled off a pivot to a different business model.
With the transition, Adobe does not offer a perpetual license to users for their creative software. Back in 2011, Adobe Creative Suite was already profitable. However, people had to make fresh purchases whenever a version update was released. This was not sustainable for every user and was an added expense. Adobe realized this and switched to a subscription-based model – Adobe Creative Cloud, in 2012.
Although the initial reaction was mixed with customers not wanting to pay a subscription, the company experienced overwhelming success in less than five years. The key reasons for success are a smaller upfront cost for users vs. buying the entire license, and users can pick the software they want and only for the duration they require it for. What’s more, they also enjoy always updated features as they do not have to worry about new updates making their version of the product obsolete, and a hassle-free experience that saves them from installing and patching new software after every release.
- SaaS Companies like Drift, Slack, Trello, and Zapier
SaaS companies like Drift, Slack, Trello, and Zapier follow feature-based pricing – one of the leading SaaS pricing models where services and products are priced based on the level of functionality. Such a model usually pairs with a tiered pricing strategy, where customers can access more features at a higher price point.
The product’s perceived value increases with an increase in features justifying the higher price. Upselling is more natural with this model, and it is easy to set user expectations while complementing other pricing models.
How Does Value-Based Pricing Benefit B2B SaaS Companies?
As already mentioned, value-based pricing is centered around the perceived value of a product – customer perception. The thing about customer perception is that it can be both predicted and changed.
For instance, you can run campaigns that justify and showcase the value your product delivers, which can then justify the price point of your product, eventually resulting in better profitability.
Further, as this model creates consistency, business growth will be formulaic with more predictable revenue streams. Better revenue projections also allow better estimating of the time window required to accomplish sales tasks.
Additionally, a well-thought-out value-based pricing strategy strengthens your brand by driving up value. You will also achieve your targeted product positioning with effective marketing and integration of your brand and customer values.
Value-based pricing strategy also helps you effectively differentiate your brand from competitors, leading to improved competitive positioning.
Related: Skyrocket your B2B SaaS growth with a Pricing & Packaging restructuring, a workshop by Aggelos Mouzakitis
Thinking About Restructuring Your Pricing Model?
A deep understanding of customer needs drives the value-based pricing approach. One must find a way to guess how people value a product. Getting consumers to engage with the brand is essential to enable an understanding of how customers value a product.
Any apprehensions about going into the process are thus justified. Deciding on customer perception requires expertise and research. headofgrowth.io eliminates all chances of costly mistakes when judging perceived value.
The step-by-step value-based price restructuring with headofgrowth.io is based on hard research evidence and years of expertise.